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Numerous industries have been disrupted by technology and new ways of doing business – think retailing and transportation, among others. Many people would probably agree, however, that one sector that had long cried out for greater efficiency and better service is finance. While commercial banks and other such institutions have long dominated the financial landscape, their unwillingness to change with the times makes them look like dinosaurs in a world where marketplace lending is rapidly coming to the fore.
Indeed, it seems apparent that this modern, online-based approach to matching lenders and borrowers has a lot going for it. Among other things, it offers advantages to borrowers and lenders, making it cheaper, easier and less stressful for both groups to achieve their financial goals.
For those with funds to lend, the ability to spread their risk among many borrowers represents a diversification benefit that is often out of reach to those with more modest portfolios. It's one thing to lend money to an individual or business and hope that they will do what they promise. It's another to tap into a broad spectrum of consumers who have, on average, demonstrated a willingness and ability to honor their obligations.
For borrowers, of course, the benefits of direct lending are equally as good, or perhaps even better. In a post-financial crisis world where traditional intermediaries are increasingly risk averse, preferring to lend to triple-A-rated multinational corporations or governments, a great many hard-working individuals and small and medium-sized enterprises (SMEs) have been left in the lurch by the established crowd.
Admittedly, many large financial institutions have had little choice but to be extra cautious amid pressures from regulators and institutional shareholders to rein in certain kinds of lending and other activities. However, that doesn't do much good for those who have traditionally served as the backbone of economic growth in the U.S. and elsewhere.
With the arrival of marketplace lending, the "little guys" now have access to financing at terms that can be significantly better than what was available from the old-line operators. The fact that those who are providing funds to these platforms are not as vulnerable as some lenders – because they are not putting all their eggs in one basket – has made them more willing to fund a broad array of borrowers, including those considered near-prime or who are based in locales where traditional institutions are wary of increasing their exposure.
But it isn't just the fact that those who are seeking better risk-adjusted returns can work with multiple counterparties that makes the direct lending market such an attractive option. Having more information about borrowers’ willingness and ability to honor their obligations, as well as loan-level historical data that can be analyzed in various ways, makes it easier to make an informed decision. As in other areas of life, knowing more about the past, present and future reduces the “uncertainty premium” that those who are putting funds at risk might otherwise demand.
In fact, research and experience suggests that everybody wins when there is greater transparency. Generally speaking, people are less fearful of being blindsided by all sorts of unwanted or unforeseen developments, which might otherwise make them reluctant to take even minor risks.
However, by investing through marketplace lending platforms, they can do business with a cross-section of borrowers that they know a lot about, which makes them more willing to do business on competitive terms. For borrowers, the fact that lenders are more comfortable about the full range of potential outcomes, including the fact that some of those who are issued loans might not live up to their end of the bargain, means that, as a group, they can get a more attractive deal.
Better yet, unlike with banks and other traditional financing sources, the fees, terms and conditions that apply when doing business through peer-to-peer lending platforms are clearly spelled out up front, rather than being buried in the fine print. Borrowers are informed about the interest rates they will be paying and what will happen if they default, while lenders know when and how much they will be paid and whether there other factors they need to take into account when deciding what works for them.
It helps, of course, that those who have created the leading direct lending platforms, such as Bondora, have incorporated the sorts of user-friendly interfaces and technological innovations that have helped make alternative finance a global phenomenon. These include such features as auto-bidding, which allows lenders to automatically fund loans that meet certain criteria, and automated, real-time underwriting, which lets borrowers know instantly whether they can obtain financing and on what terms.
As with other P2P and "crowdfunding" models that are pushing costly middlemen out of the equation, marketplace lending has, because of the successes seen so far, encouraged – or maybe forced – banks and other mainstream institutions to work with the new kids in town. In some cases, the traditional players are only indirectly involved. They are referring individuals and SMEs to these platforms when they are unwilling or unable to provide what prospects are looking for.
Increasingly, many are becoming more actively engaged. Some are allocating significant capital to direct lending platforms to spread their risk across a cross-section of borrowers or to tap into an asset class that allows them to maintain a more diversified credit portfolio. Others are originating new loans that they then market through the online venues, either on their own or in cooperation with other firms, to investors seeking to enhance returns or reduce risk.
All in all, there are numerous reasons to believe that today's marketplace lending platforms represent the future of finance. Aside from their inherent appeal to both borrowers and lenders, especially those who have been largely ignored by the bricks-and-mortar operators, this technology-savvy and virtually borderless industry seems well suited to an era of innovation, global connectivity and smarter thinking about finances.
Is it any wonder that so many are keen to take part?
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